NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Regional Contagion and the Globalization of Securities Markets

Guillermo A. Calvo, Enrique G. Mendoza

NBER Working Paper No. 7153
Issued in June 1999
NBER Program(s):   ITI

This paper argues that the globalization of securities markets may promote contagion among investors by weakening incentives for gathering costly country-specific information and by strengthening incentives for imitating arbitrary market portfolios. In the presence of short-selling constraints, the utility gain of gathering information at a fixed cost converges to a constant level and may diminish as securities markets grow. Moreover, if a portfolio manager's marginal cost for yielding below-market returns exceeds the marginal gain for above-market returns, there is a range of optimal portfolios in which all investors imitate arbitrary market portfolios and this range widens as the market grows. Numerical simulations suggest that these frictions can have significant quantitative implications and they may induce large capital flows in emerging markets.

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Document Object Identifier (DOI): 10.3386/w7153

Published: Journal of International Economics, Vol. 51 (June 2000): 79-114.

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